As is always the case, I got a lot of feedback on yesterday’s predictions post. Most of it was constructive. Some of it was fawning (yuck). And some of it was snickering.

That’s how it goes when you stick your neck out and take a stance, make a bet. I am used to it.

I am surprised at how few people are willing to do this sort of thing. They have opinions, for sure, but they don’t put them out there and get the reactions that help shape those views going forward.

I would encourage everyone to share your views, opinions, and predictions publicly. It is a practice that produces great value for me and I think would produce similar value for others.

Speaking of predictions, this one on crypto from Arjun Balaji is quite good (and quotes me too 🙂

Today is a back to work day, so I am going end this now and do that.

Hi Everyone. Happy 2019.

Today, as is my custom on the first day of the new year, I am going to take a stab at what the year ahead will bring. I find it useful to think about what we are in for. It helps me invest and advise the companies we are invested in. Like our investing, I will get some of these right, and some wrong. But having a point of view, a foundation, is very helpful when operating in a world that is full of uncertainty.

I believe and have been telling those around me that I think 2019 will be a “doozy.” I think we will see major dislocations in the leadership of the United States, a bear market in stocks, a weakening economy, a number of issues with the global economy including a messy Brexit and a sluggish China. All of this will lead to a more cautious stance by investors in the startup economy. And crypto will not be a safe haven for any of this although there will be signs of life in crypto land in 2019.

Let’s take each of those in the order that I mentioned them.

I believe that we will have a different President of the United States by the end of 2019. The catalyst for this change will be a devastating report issued by Robert Mueller that outlines a history of illegal activities by our President going back decades, including in his campaign for President.

The House will react to Mueller’s report by voting to impeach the President. Which will set up a trial in the Senate. That trial will go so badly for the President that he will, like Nixon before him, negotiate a resignation that will lead to him and those close to him being pardoned for all actions, and Mike Pence will become the President of the United States sometime in 2019.

I believe this drama will play out through most of 2019. I expect the Mueller report to be issued sometime in the late winter/early spring and I expect an impeachment vote by the House before the summer, leading to a trial in the Senate in the second half of the year.

The drama in Washington will have serious impacts to the economy in the United States starting with our capital markets.

The US equity capital markets enter 2019 on shaky ground. Though the last week of the year brought us a relief rally, the markets are dealing with higher rates, some early indications of a weaker economy in 2019 (possibly due to higher rates), and, of course, the potential for the drama in Washington that we’ve already discussed. Here is a chart of the S&P 500 over the last five years:

I expect the S&P 500 to visit 2,000 sometime in 2019 and then bounce around that bottom for much of the year. This would represent a decrease in the S&P’s trailing PE multiple to around 15x which feels like a bottom to me given the recent history of the equity markets in the US:

Interest rates have been rising gradually in the US for the last three years. The Fed has taken its Fed Funds rate from essentially zero three years ago to almost 2.5% today:

The rates that are available to consumers and businesses have followed and I expect that to continue in 2019. Here is a chart of the interest rates on the three most popular mortgage products in the US:

When it gets more expensive to borrow, marginal projects don’t get funded. And what happens at the margin has a much larger impact on the economy than most people understand. No wonder the President wants to fire the Fed Chairman.

I expect the combination of higher rates, uncertainty in Washington, and storm clouds globally (which we will get to soon) will cause business leaders in the US to become more cautious on hiring and investment. Consumers will make essentially the same calculations. And that will lead to a weaker economy in the US in 2019.

The global picture is not much better. The eurozone is about to go through the most significant change in decades with some sort of departure of the UK from the EU (Brexit). It remains unclear exactly how this will happen, which in and of itself is creating a lot of uncertainty on the Continent. I don’t expect most businesses in Europe to do anything but play defense in 2019.

Probably the biggest unknown for the global economy is the resolution of the ongoing trade tensions between China and the US. It seems inevitable that China will make some concessions to the US to resolve these trade tensions. But, of course, what happens in Washington (first issue) may impact all of that. In the meantime, the uncertainty around trade and exports hangs over the Chinese economy. China’s GDP has been slowing in recent years as it achieved relative parity with the US and the Eurozone:

Any significant trade concessions from China could impact its growth prospects in 2019 and beyond, which will take the most powerful engine of global growth off the table this year.

So all of that is a pessimistic take on the broader macro environment in 2019. How will all of this impact the startup/tech economy?

The startup/tech economy is somewhat immune to macro trends. Many startups and big tech companies were able to grow and expand their businesses during the last financial downturn in 2008 and 2009. Some very important tech companies were even started in those years.

The tech/startup economy is driven first and foremost by technical and creative (ie business model) innovation. And that is not impacted by the macro environment.

So I expect that we will continue to see big tech invest and grow their businesses and do well in 2019. I expect we will see IPOs from big names like Uber/Lyft/Slack, although I also expect those deals will get priced well below the lofty expectations they have in mind right now. Some of that will be because of weak equity markets in the US, but it is also true that most of the IPOs in 2018 also priced below the lofty “going in” expectations of founders, managers, boards, and their bankers. The public markets have been much more sanguine about value than the late stage private markets for a long time now.

However, I do think a difficult macro business and political environment in the US will lead investors to take a more cautious stance in 2019. It would not surprise me to see total venture capital investments in 2019 decline from 2018. And I think we will see financings take longer, diligence on new investments actually occur, and valuations to come under pressure for even the most attractive opportunities.

But all of that is going to happen at the margin. I expect 2019 to be another solid year for the tech/startup sector as we are in a possibly century-long conversion from an industrial economy to an information economy and the tailwinds for tech/startup vs the rest of the economy remain in place and strong.

Any set of predictions for 2019 from me on this blog would not be complete without some thoughts on crypto. So here is where my head is at on that topic.

I think we are in the process of finding the bottom on the large, liquid, and lasting crypto-tokens. But I think that process could take much of 2019 to play out. I expect we will see some bullish runs, followed by selling pressures taking us back to retest the lows. I think this bottoming out process will end sometime in 2019 and we will slowly enter a new bullish phase in crypto.

I think the catalyst for the next bullish phase will come as the result of some of the many promises made in 2017 coming to fruition in 2019. Specifically, I think we will see some big name projects ship, like the Filecoin project from our portfolio company Protocol Labs, and the Algorand project from our portfolio company Algorand. I think we will see a number of “next gen” smart contract platforms ship and challenge Ethereum for leadership in this super important area of the crypto sector. I also expect the Ethereum open source community to ship a number of important improvements to its system in 2019 and defend their leadership in the smart contract space.

Other areas of crypto where I expect to see meaningful progress and consumer adoption happen in 2019 are stablecoins, NFT/cryptoassets/cryptogaming, and earn/spending opportunities, particularly in the developing world.

There will also be pressure on the crypto sector in 2019. The area I am most concerned about are actions brought by misguided regulators who will take aim at high quality projects and harm them. And we will continue to see all sorts of failures, from scams, hacks, failed projects, and losing investments be a drag on the sector. But that is always the case with a new emerging technology that allows anyone to set up shop and get going. Permissionless innovation produces the greatest gains over time but also comes with the inevitable bad actors and actions.

So that’s where my head is at on 2019. Do I sound pessimistic? I suspect I do, but I am not. I am incredibly optimistic, like my partner Albert and can’t wait to get going and make things happen in this new year. It is going to be a doozy.

Continuing the year end theme, it is time for my annual recap of what happened this year, to be followed by a look forward tomorrow on the first day of the new year.

Last year I was not particularly confident in my look forward. I thought Trump would be President at the end of 2018, I thought the Republicans would lose control of the House, I thought the “techlash” would escalate, and I was worried about crypto. Those all turned out to be correct. But I had less clarity about the direction of the economy and the tech sector.

What actually happened was that 2018 was a year that we lost trust in tech, government, and a lot more.

Let’s start with tech. This chart I saw in Recode’s year end wrap-up says it well:

While much of the distrust is currently aimed at Facebook, the “I don’t trust you” numbers are growing for many other big tech companies.

I have always felt that search traffic on our portfolio company’s DuckDuckGo’s search engine is a great proxy for distrust of Google and that curve looks like it is going parabolic:

2018 also brought us GDPR, the first of what I expect will be multiple regulatory efforts to control the large tech companies’ use of our personal information for their gain and our loss.

But more important are our personal decisions about the technology we use and what we use less or stop using altogether.

In 2018, we saw social media usage in the US flatten out and possibly even start to decline a bit. Here is another chart from that Recode year-end wrap-up:

And the usage of screen time management apps, like Screentime on iOS, is surging. We know we are addicted to tech, we don’t want to be, and we are working on getting sober.

All of this lost trust is challenging for big tech, and the tech sector in general, but is also a huge opportunity for new companies and new technologies that can offer different products and business models that we can trust more, or don’t need to trust.

This loss of trust in 2018 was not limited to the tech sector. In the US, and also in many places around the world, we are losing trust in our institutions and our elected officials.

In the midst of the most charged political moment of 2018, the Kavanaugh hearings, I was talking to my mom who is 88 years old and has seen a lot and she said to me “I don’t know who to trust.” Neither do I. And I suspect most of us don’t either.

In the US, we have a President who is not trustworthy and may well be a criminal. We will get to that tomorrow when we look forward. And we have a Congress that no more than 20% of us trust and haven’t for over a decade.

We also see the decline of democracy and the rise of autocracy around the world.

These are worrisome trends. But I am an optimist. See a problem, find a solution.

Which takes me to crypto, naturally.

On the surface, one would say that 2018 was a horrible year for crypto. This is the Bitcoin price chart from our portfolio company Coinbase:

Native (token sale) fundraising for crypto is also way down:

But the truth is that 2018 was a year that the crypto market continued to prove its resiliency. Trading volumes declined massively but the underlying blockchains did not collapse.

This is a chart from Coinmetrics.io which shows the transaction volume of the top ten crypto-tokens by market cap over the years:

What this very busy chart tells me is that there are now many public blockchains that are supporting daily transaction volumes in the ten of thousands to hundreds of thousands.

I think this chart of Bitcoin transaction volume from Blockchain.com tells the story of 2018 well:

Crypto took a big hit in the first half of 2018 with the collapse of trading volumes. But the underlying strength of native blockchain transactions picked up the slack and it won’t be long until transaction volumes make new all time highs. Token Prices? Well that is another story, and more appropriate for the look forward tomorrow.

In summary, 2018 was a tough year for our institutions, including the big tech companies that are our new institutions. We are losing trust in them. And looking for new things to trust. Which also creates an opportunity for a post trust society. More on that tomorrow.

Happy New Year everyone.

As is my tradition as the end of the year nears, here are the songs that stayed with me in 2018.

It is a mix of songs everyone knows, like the marvelous All The Stars from the Black Panther soundtrack (which will be a 30sec sample unless you are a paying subscriber to SoundCloud) to little known gems like the starter track and the ending track. It features the biggest musical stars of the moment like Childish Gambino, Cardi B, Kendrick Lamar, Arctic Monkeys, and lesser known artists that I love like Doja Cat, Little Simz, Sampa The Great, and Grapetooth.

It has a healthy dose of SoundCloud rap, in the middle of the playlist, because I probably listened to more of that this year than anything else. But I’ve included a number of genres, from hip hop, to electronic, to R&B, to alternative/indie, and a few tracks that defy categorization.

With that, here are the songs that stayed with me in 2018:

My partner Brad Burnham recently went on Jason Calacanis‘ This Week In Startups. It is a longish (just over an hour) conversation and they cover a lot of territory.

At the tail end of the post that I wrote on how USV (me in particular) missed the first round for Airbnb, I wrote:

We made the classic mistake that all investors make. We focused too much on what they were doing at the time and not enough on what they could do, would do, and did do.

But we sometimes get it right when others get it wrong. When Henry Ward, founder and CEO of Carta (then known as eShares) wrote about their Series A round, he said:

I used to try explaining that $20 stock certificates were an entry point into something bigger. It never worked.

Same issue. Most investors looked at the business of selling $20 electronically issued stock certificates and missed that it was simply the entry point to moving the entire private securities market to the cloud.

Investors have figured that out now and Carta is one of the fastest growing SAAS companies out there.

But missing the forest through the trees is a common mistake that early stage investors make. I make it. We make it. Everyone makes it.

My partner Brad Burnham has the best framework for thinking about this issue that I know of. He calls it “finding the narrow point of the wedge.” The analogy is trying to hammer a piece of metal into a block of wood. If the metal is large and flat, you can’t do it. But if it is narrow and thin, you can. And, of course, once you get the narrow point of the wedge into the block of wood, you can hammer it all the way in.

So, that’s what we all have to think about. Is there a large market out there that can be fundamentally changed with technology (like moving the private securities market to the cloud, or turning empty real estate into places to stay when you travel)? And what is the simplest and easiest way to get into it (like selling $20 electronic stock certs or putting air mattresses on living room floors)?

We try to keep Brad’s framework in our heads at USV, but we forget it frequently. And it is often the costliest mistake we make in the VC business. Because high impact companies do not come along that often, and when they do, we have to find a way to say yes.

We have been dealing with a lot of comment spam here at AVC over the last few weeks.

Most of it is “guest commenting” where the spam is being posted by an account that is not registered to Disqus (which hosts the AVC comments).

So I am trying something new and different in the hopes that we can dramatically reduce comment spam.

We are suspending the guest commenting feature on AVC. This may be temporary or it may be permanent.

I hope and expect that regular commenters who are registered with Disqus will not be impacted.

I realize this may reduce the number of comments by people who are new to AVC. It may also reduce the total number of comments and the opportunity for new voices to come and participate. None of this is good in my view.

But I want the AVC comments to be a “clean and well lit” place and I also want the maintenance of this blog to be minimal. So that’s why I’m doing this. We will see how it goes.

I had an interesting conversation with a friend who operates a traditional business (not tech, not venture backed, not “growth”) last week. He buys a lot of software from tech companies and he observed that not one of them operates profitably. And that makes him a bit uncomfortable as he has always operated his businesses profitably. He mentioned to me that when he has taken capital from investors he has paid them back in full in less than a year each time, from the profits that the business is generating.

It got me thinking that there is something about tech, particularly venture capital-backed tech, that allows us to operate for what seems like forever without a need to generate self sustaining profits.

This can be a fantastic way to generate value when the opportunity is large enough (Google, Amazon, Facebook, Twitter, etc). But it is not a fantastic way to generate value when the opportunity is constrained, either by a smallish market size (TAM) or by a ton of competitors (little to no barriers to entry) or a number of other factors.

Value is generated when the capital required to get a business to sustainability (usually positive cash flow, but I will include exits here) is meaningfully less than what the business is worth when sustainability is reached.

As the capital requirements go up, because of sustained losses year after year after year, the business needs to become worth ever more money at sustainability.

The mistake I think we make in the startup/tech/VC sector is that we look at things like Google/Amazon/Facebook/Twitter, or more recently Uber/Airbnb/Slack, and we think that every business can execute the same playbook. The sad truth is that not every business can execute that playbook and, as a result, many startups consume way too much capital on the way to sustainability and value is lost, not created.

The never ending question that founders and management teams and boards face is whether to invest for growth (aka lose a ton of money) or work towards profitability (but constrain the growth of the business). It seems like every board I am on and every company in our portfolio is always asking this question.

Where I come out on this issue, and always have, is that the growth has to be responsible (positive unit economics on growth spend) and that the path to profitability needs to be well in sight. I would add to those two constraints that a management team ought to be able to get a business profitable in a pinch without killing the business, if necessary. Clearly these “rules” should not apply to very early stage companies. They become relevant and possible once a business has a growing customer base and revenue stream.

I think very few companies in our portfolio and any VC firm’s portfolio will pass these tests right now. Some do but not many. We have a few companies in our portfolio that are operating profitably. We have a few more that are in operating with profitability well in sight and could get there in a pinch without hurting the business too much. But the vast majority are burning money like its water and there is plenty more where it came from.

Perhaps it is true that there will always be money to fund burn. Or perhaps it isn’t. But even if there is endless capital, many founders and teams will wake up one day and realize that all of that burn they accumulated is now a hurdle they have to overcome. And many won’t overcome it.

The profit motive is what makes capitalism work. Businesses are ultimately valued as a discounted set of future cash flows. Positive cash flows. If you can’t generate profits in the future, your business will not be worth anything. So profits are key. And yet we don’t seem to value them in the tech/VC/startup world very much. Maybe we should.

To all of those who celebrate Christmas, I wish you a wonderful day filled with family and friends.

To those who don’t celebrate Christmas, I wish you a day of rest and relaxation.